1031 Reverse Exchange Rules: Replacement Reverse
Table of Contents:
When Would I Need A Reverse Exchange?
Are Reverse Exchanges Legal?
Some “Holding Company” Buys My Replacement Property? Is That Safe?
How Can The EAT Afford To Purchase My Replacement Property?
Do Reverse 1031 Exchanges Have Rules Similar To Forward Exchanges?
What Happens If I Cannot Complete The Reverse 1031?
When would I need a reverse exchange?
When you need to close on your purchase (replacement) property before you are able to close on your sale (relinquished) property.
Are reverse exchanges legal?
Yes, the IRS knows about (and allows) reverse 1031 exchanges. They are more challenging to execute, though.
In 2000 in Rev, Proc. 2000-36, the IRS set forth the procedures to safely perform a reverse 1031 exchange. The rules state that you can’t simply buy your replacement property first and then sell your relinquished property second. This is because you are not allowed to hold title to both properties at the same time. Either the replacement property or the relinquished property must be held, temporarily, by a holding company known as an Exchange Accommodation Titleholder (“EAT”).
We will create the holding company at a new limited liability company (LLC). When our LLC captures your replacement property for you, this is also known as an “exchange later” reverse exchange. (Click here to read about an “exchange first” relinquished reverse transaction.)
So a “Holding Company” buys my replacement property? Is that safe?
1031x.com, Inc. will set up a new single-purpose LLC for your reverse transaction. This LLC’s only legitimate functions are to
- hold your replacement property in a reverse exchange;
- then, under your direction, re-convey the property to you.
You negotiate the terms of the replacement purchase, then assign the contract to the EAT. These terms and responsibilities are set forth in a real estate holding contract, signed by both parties.
Our LLC will also lease the replacement property to you until after you sell your relinquished property, or for 180 days, whichever occurs first.
How can the EAT afford to purchase my replacement property?
Our LLC will purchase the replacement property by borrowing 100% of the needed funds. We can borrow from any source that you authorize.
The easiest source of borrowed funds is you. After taking title to the property, our LLC will lease the property to you. This allows you access to the property while the rest of the exchange finalizes. (Lease payments owed by you to our LLC will correspond exactly to the mortgage payments made by our LLC to you.)
Any lender is protected by a note and deed of trust on the replacement property. Finding a lender for a reverse exchange can be difficult! Please contact us is you need help finding a reverse exchange lender.
Do reverse 1031 exchanges have rules similar to normal exchanges?
In a way, yes. This is particularly true of “exchange first” reverse transactions. Some of the rules are simply flipped for an “exchange later” reverse.
For example, you are allowed to identify up to three potential relinquished properties within 45 calendar days of the EAT’s purchase of the replacement property. To stay within the “safe harbor,” you must complete your entire reverse 1031 transaction within 180 calendar days of the EAT’s purchase of your replacement property.
At the time of sale of your relinquished property, 1031x.com, Inc. will act as Qualified Intermediary for you and escrow the sale proceeds. These proceeds will be used to “buy” the replacement property from the EAT.
The net effect of this will be simply to shift all equity from the relinquished property to the replacement property.
In the end this looks very much like a forward exchange; we simply captured and held the replacement property until the relinquished property was ready to sell.
What happens if I cannot complete the reverse 1031?
When a reverse exchange fails, our real estate holding agreement states that we will transfer whatever property we are holding to you at the end of 180 days. You end up owning both relinquished property and replacement property. A failed reverse exchange is not a tax-recognition transaction. You will simply own more real estate than you had hoped.
How can we help you?
Click here to contact a 1031 exchange specialist
or call (303) 504-0144 for immediate help